Stock Market Volatility Wakes Up, More Ahead?

With the U.S. government closed, Congress stuck in political gridlock, and the nation on the verge of a possible debt default (TLT), stock market volatility has surged.

Over the past two weeks, the CBOE S&P 500 Volatility Index (^VIX) has jumped almost 25%. Meanwhile, the S&P 500 (SPY) has slipped around 1.76% over the past five trading sessions.

While most stock market pundits were dismissing the significance of depressed stock market volatility, we alerted our readers of a VIX (VIXY) trading opportunity. In our October ETF Profit Strategy Newsletter (published on 9/20/13) we wrote:

"Since the end of last year, the VIX has experienced a price jump nearly every two months and as we've consistently noted, the S&P 500 has been making new highs, yet the VIX hasn't bottomed. This is a rather large discrepancy and the previous times stocks have made new highs without the VIX hitting new all-time lows, it warned of a short term market top. We think hedging volatility still makes sense and we're buying the XXXX 2013 VIX call options at $540. The XXXX (reserved for subscribers) expiration will give our VIX trade time to develop."

So far, our latest VIX position is ahead by +24% and is still open.

Although the VIX bottomed in March near 11.30, stock market sentiment and volatility can change on the dime. And the only way to capitalize on higher volatility is to be ready before it strikes. (See our piece "Is the Sleeping Giant Ready to Awaken" from 8/30/13)

Is this time different or a repeat of what the VIX did just a few months ago?

From May 24 to June 20 the VIX (VXX) surged just over 46%. And per our June 2013 ETF Profit Strategy Newsletter (published on May 23, 2013) we were again able to identify another high profit setup for our readers. We wrote:

"Our favorite way to trade the VIX is not with VIX exchange-traded products (ETPs), but rather using VIX call and put options. We like the flexibility of being able to customize our VIX trades with specific strike prices and specific time horizons. We now recommend rolling into the VIX JUL 13 calls (VIX130717C00013000) at $370 per contract."

We rode the 46% spike in the VIX and stock market volatility and per our June 24 alert we sold half our VIX JUL 13 call options position for an 84% gain at around $680 per contract. On July 3, we alerted readers to sell the remaining half of the VIX position at $450 contract.

A depressed VIX can be interpreted as too much complacency or lack of fear in the market. It's frequently used as contrarian sell signal. Conversely, an elevated VIX infers a high level of fear and could be a good buy setup, depending on the circumstances.

The ETF Profit Strategy Newsletter uses a combination of market sentiment, fundamental/technical analysis, market history, and common sense to be on the right side of the market. Since the beginning of the year, 74% of our time stamped ETF picks have turned a profit and our biggest win was a +525% gainer. (through 9/30/13)